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Microsoft’s Nadella Manages Legacy of Ballmer-Board Split

By Dina Bass, Beth Jinks and Peter Burrows
March 05, 2014 12:01 AM EST 11 Comments
New Microsoft Corp. CEO Satya Nadella is seeking to reshape a company whose main businesses are losing steam as efforts to expand on the Web and in mobile devices have been thwarted by Apple Inc. and Google Inc.
Source: Microsoft Corp. via Bloomberg
New Microsoft Corp. CEO Satya Nadella is seeking to reshape a company whose main businesses are losing steam as efforts to expand on the Web and in mobile devices have been thwarted by Apple Inc. and Google Inc.

As Satya Nadella puts his stamp on Microsoft Corp., he’s coming to grips with the tug of war over strategy and the clash of personalities that marked Steve Ballmer’s final years at the helm.

Nadella, who succeeded Ballmer one month ago, took a step this week by unraveling part of a restructuring his predecessor put in place in one of his last acts as chief executive officer. Nadella appointed onetime Democratic political operative Mark Penn to the just-invented post of strategy chief and shuffled other executives to resolve an unwieldy setup Ballmer had established in the marketing department.

The new CEO is seeking to reshape a company whose main businesses are losing steam as efforts to expand on the Web and in mobile devices have been thwarted by Apple Inc. (AAPL) and Google Inc. (GOOG) Nadella will also exert his influence on the push into hardware, a strategy shift that fueled some of Ballmer’s fiercest arguments with the board.

Related: Ballmer Says Microsoft a ‘Two-Trick Pony,’ Working on Third

Before the announcement in August that he would be retiring, some directors were so exasperated they talked about how they might ease him out, including by hiring someone he admired, Ford Motor Co. CEO Alan Mulally, to succeed him, according to people with knowledge of the matter; Mulally later fell out of favor when members viewed him as behaving as though the job should be handed to him without so much as a formal interview, according to the people, who weren’t authorized to speak publicly about the situation. A spokeswoman for Mulally declined to comment.

Initially Opposed

Ballmer’s relations with the board hit a low when he shouted at a June meeting that if he didn’t get his way he couldn’t be CEO, people briefed on the meeting said. The flare-up was over his proposed purchase of most of Nokia Oyj (NOK1V), and part of an ongoing debate: Should Microsoft be a software company or a hardware company too?

Several directors and co-founder and then-Chairman Bill Gates -- Ballmer’s longtime friend and advocate -- initially balked at the move into making smartphones, according to people familiar with the situation. So, at first, did Nadella, signaling his position in a straw poll to gauge executives’ reaction to the deal. Nadella later changed his mind.

“Nokia brings mobile-first depth across hardware, software, design, global supply chain expertise and deep understanding and connections across the mobile market,” Nadella said yesterday in an e-mailed statement. “This is the right move for Microsoft.”

In his shakeup, he reassigned Penn, who spearheaded the “Don’t Get Scroogled” campaign that dissed Google, and replaced Tony Bates, an opponent of the Nokia purchase who was passed over for CEO and left the company this week.

Damage Done

Microsoft spokeswoman Dawn Beauparlant said Ballmer declined to comment. He remains on the board, along with Gates, who stepped down as chairman to be Nadella’s technology adviser. John Thompson replaced Gates as chairman. Thompson, Gates and Nadella also declined be interviewed, she said.

Ballmer was so loud that day in June his shouts could be heard outside the conference room, people with knowledge of the matter said. He’d just been told the board didn’t back his plan to acquire two Nokia units, according to people with knowledge of the meeting. He later got most of what he wanted, with the board signing off on a $7.2 billion purchase of Nokia’s mobile-phone business, but by then the damage was done.

Concerns over Microsoft’s direction had been mounting for months. For some directors, the question was whether Ballmer should still lead, according to people close to the board.

Last Straw

They were frustrated by his tendency to talk more than listen, the people said, and his reaction to the pushback on Nokia was for some the last straw. The board rejected the first deal as too expensive and complex, including not only the handset division but also a mapping unit Microsoft didn’t need. Even without maps, Fitch Ratings called the price “excessive” in a note yesterday, citing a deterioration in the user base for Windows-based phones.

For more than a decade, directors gave Ballmer what he wanted. Then two outsiders who joined the board in the first half of 2012 -- Thompson, a former Symantec Corp. CEO, and Steve Luczo, CEO of Seagate Technology Plc -- teamed with others to challenge him. They pressured him to move faster to compete with Apple, Google and others dominating mobile technology, fearful Microsoft would be locked out and left with the shrinking personal-computer market.

As Microsoft continued to lag behind rivals, some directors grew more unhappy. Ballmer had introduced Mulally as part of the company’s succession planning, and those on the board looking for ways to move Ballmer out talked in July about hiring the Ford CEO as a way to persuade the CEO to step down. In August, Ballmer, 57, announced he would retire, earlier than planned.

Obvious Camaraderie

He wouldn’t have done that unless he’d lost Gates’s backing, said Yale University business professor Jeffrey Sonnenfeld. Gates had persuaded Ballmer to drop out of business school to join Microsoft in 1980. Their camaraderie was obvious in the videos they made, like the one in which they spoof the witless losers from “The Night at the Roxbury.”

They remained close, through some rough patches, after Gates handed over the CEO reins in 2000 and took a job they called chief software architect, a post he held until 2008.

Differences emerged over the move into hardware, according to people familiar with the matter. Gates didn’t agree that the world’s largest software maker should produce its own mobile devices, and Ballmer was hurt that Gates didn’t back him, the people said. At November’s shareholder meeting, General Counsel Brad Smith had to persuade them to take the stage together.

Hastened Departure

The company’s challenges were old news by the time of the Nokia showdown. The stock peaked at $59.56 days before Gates left the CEO post. Revenue growth averaged 9.4 percent in the last 10 years, compared with 24 percent in the previous decade.

The seeds of Ballmer’s hastened departure were sown with the October 2012 unveiling of a new edition of the Windows operating system that he championed, a revamp of Microsoft’s mobile-phone software and the introduction of its very first tablet computer. Meant to address the company’s shortcomings, the products exposed them instead when they flopped.

There were success stories under Ballmer. Net income almost tripled, Microsoft became a video-game leader with the Xbox and online versions of its Office suite of software proved popular. He promoted Nadella to head the server unit with instructions to move aggressively into Web-based services, and Nadella re-engineered the business into a No. 2 behind Amazon.com Inc. (AMZN)

Surface Dud

What Ballmer failed to figure out was how to respond to PCs becoming passé. Consumers had fallen in love with smartphones and tablets from Apple and Samsung Electronics Co. (005930) and other devices that didn’t operate on Microsoft software. The company had foreseen the small-screen device trend before Apple came out with the iPhone in 2007 -- and had failed to deliver anything people were keen to buy.

The tablet Microsoft finally came out with in October 2012, the Surface, was a dud. Windows 8, with a touch-based design, was released to mixed reviews. The smartphone operating system, Windows Phone, wasn’t a hit either -- but Ballmer remained committed to it. A deadline was looming that would result in one of his last rolls of the dice.

Nokia made about 80 percent of handsets using Windows Phone, and the arrangement was set to expire in February 2014. Nokia had been dropping hints it might start making devices to run on Google’s Android platform. Ballmer needed a way to keep Nokia in Microsoft’s world.

Straw Poll

In February 2013, on the eve of the Mobile World Congress show in Barcelona, he reached out to Nokia Chairman Risto Siilasmaa and started the talks that resulted in the agreement the board kicked back. Then the handset-only deal was hammered out; it included bringing Nokia CEO Stephen Elop, a former Ballmer lieutenant, back as head of a new devices unit.

Even on Ballmer’s senior team, the acquisition wasn’t universally popular. In the straw poll, several executives initially voted against it, including Nadella and Bates, according to people with knowledge of the matter. Nadella later sided with Ballmer, while Bates remained staunchly opposed.

In July, Microsoft reported the biggest earnings miss in at least a decade. Owing to poor sales of Surface, it took an unexpected $900 million charge to write down the value of inventory. That reinforced the view of some on the board that Microsoft would have a tough time expanding into hardware.

One of Ballmer’s last endeavors was a controversial restructuring that changed how the company is managed. While not a reversal, Nadella’s personnel moves this week were designed to establish a more cohesive, contented team.

Heads Up

The former CEO had put Penn and Tami Reller jointly in charge of aspects of marketing, an arrangement they were unhappy with, said a person familiar with the matter. Reller went so far as to tell Ballmer he had to choose between them, said the person. She’s leaving the company and will be replaced by Chris Capossela, who’d been pushed aside by Ballmer’s reorganization.

It was late on Aug. 22 that Ballmer shocked his leadership team with the news he’d be announcing his departure the next morning. Two outsiders who got a heads-up were Siilasmaa and Elop of Nokia, said people familiar with the events. Ballmer called each of them about 15 minutes before the announcement to reassure them Microsoft remained committed to the deal.

One week later, the board engaged in a stare-down with activist shareholder ValueAct Holdings LP. The fund was demanding a board seat and threatening a proxy contest. On the final day for proxy matters, the board negotiated with ValueAct executives while a ValueAct messenger in a hoodie lingered in the lobby with the proxy fight paperwork, just in case.

Freedom Concerns

The fund’s president, Mason Morfit, will become a director this month. He’s expected to urge Microsoft to focus on boosting sales of its applications and services to other operating systems and on enterprise software -- not on consumer hardware.

Moving up Ballmer’s retirement date raised hurdles. Nadella and other internal candidates hadn’t been groomed and weren’t as well known by investors, partners and the public as the company might have liked, said people familiar with the matter.

The board hired the executive-search firm Heidrick & Struggles International Inc. and named a committee: Gates, Thompson, Luczo and former Bank of America Corp. Chief Financial Officer Charles Noski. Thompson said they generated an initial list of more than 100 names.

Ballmer asked Elop if he was interested, according to a person familiar with the matter. Worried the CEO wouldn’t have enough flexibility, Elop said he needed to hear from Gates and Thompson that they were serious about making changes, the person said, and agreed to interview after receiving assurances. Others -- Mulally included -- expressed concerns about the freedom they’d have with both Ballmer and Gates, the first two CEOs, on the board, people familiar with the process said.

Bowing Out

Initially, directors were of the view the company should prioritize management skills over a technology pedigree, said people familiar with the discussions. The Ford CEO fit that profile, the people said. Mulally was acclaimed for saving the automaker without resorting to bankruptcies or bailouts, and for cultivating a more collaborative culture at the company.

Over time, Gates and other directors decided Microsoft needed someone from the industry. And Mulally’s ego got in the way, according to people familiar with the search. While he met with members of the search committee and expressed interest in the job, he refused to formally interview, the people said. By early December, his chances faded.

A person close to Mulally said he bowed out because he was worried about how much leeway he’d have to make decisions and was dismayed about how public the search had become. Ford spokeswoman Susan Krusel said Mulally declined to comment.

Limited Field

Some outsiders the board hoped would participate said no, including John Donahoe, CEO of EBay Inc., and Paul Maritz, CEO of cloud-venture Pivotal and a former Microsoft executive, said people familiar with directors’ thinking.

In December, Nadella was the leading internal candidate. Steve Mollenkopf, chief operating officer at Qualcomm Inc., was the top external choice and a serious competitor to Nadella, according to people familiar with the matter. Unbeknownst to Microsoft directors, Qualcomm’s board, fearful of losing Mollenkopf, was accelerating its own succession process to name him CEO. Less than 24 hours after Bloomberg News reported Mollenkopf was a major candidate, Qualcomm pulled the trigger.

In the end, there was a limited field of candidates who could resuscitate an operation set to grow to more than 130,000 employees and with projected sales this year of more than $84 billion. “Anyone that knows a lot about one part of Microsoft probably doesn’t know much about another part,” said Jayson Noland, a Robert W. Baird & Co. analyst. “It’s hard for any one person to get their arms around a company like Microsoft.”

Working Together

Directors chose Nadella, 46, in a meeting in New York in January. Then the board began working out the details of Nadella’s deal and Gates’s future: He stepped down as chairman after 33 years to become technology adviser, spending one third of his time at Microsoft. Nadella asked Gates, 58, to take on the role, according to a person familiar with the discussions. Directors briefly considered making Thompson executive chairman.

In an e-mail to employees when he announced the personnel changes this week, Nadella quoted from a book by a former Microsoft employee about the University of Washington rowers who won the gold in the 1936 Olympics. “There is a very evocative description in the book about a team of rowers working together at the highest level -- he calls it ‘the swing of the boat’” Nadella said. “As a company, as a leadership team, as individuals, that is our goal –- to find our swing.”

To contact the reporters on this story: Dina Bass in Seattle at dbass2@bloomberg.net; Beth Jinks in New York at bjinks1@bloomberg.net; Peter Burrows in San Francisco at pburrows@bloomberg.net

To contact the editor responsible for this story: Pui-Wing Tam at ptam13@bloomberg.net

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